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Can defaults happen in the debt portion of hybrid funds?

Yes, that's possible but there is a way to reduce that risk, says Dhirendra Kumar

In view of default episodes that have been unfolding in the debt fund space, can any defaults happen in the debt portfolios of aggressive hybrid funds (balanced funds)? What is your advice to investors in this regard?
- Virendra

Yes, defaults can happen in any debt portfolio, including aggressive hybrid funds. We have different kinds of debt fund portfolios and aggressive hybrid funds mostly invest in corporate debt of relatively higher yield. So, there is a possibility of defaults. More so, given the kind of economic context we are living in right now, some good companies with no default history may be hit as well. As of now, the rating is an opinion and the opinion can change and so can the economic situation or the financial condition of a company. So, if companies face rough weather, they can get downgraded and that can have an impact on the debt portfolios.

The primary role of the debt component of these funds is to provide stability to the otherwise volatile equity portfolio. So, the debt component of hybrid funds getting a blow will be unfortunate and disappointing. But it won't be very unnerving. This is because, as aggressive hybrid funds invest 65-70 per cent in equity, investors are quite used to the volatile market movements.

Having said that, while equity tends to make a comeback but when problems happen in the debt portfolio, things go down the drain or get stuck for a long time. So, defaults can happen there and I don't think we have much way around that.

But while choosing an aggressive hybrid fund, be a little selective. I like funds which are of top quality and are not trying to maximise returns with their fixed-income portfolio, as the role of debt portion is to provide stability and not to cause more anxiety.

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